Determine the share price and corporate tax rates
Course:- Finance Basics
Reference No.:- EM1349709

Assignment Help
Assignment Help >> Finance Basics

Company A and B are two identical companies with equal asset values of $50 million. Company A is financed by equity only and has 100,000 shares outstanding. Company B has perpetual risk-free debt in its capital structure with a market value of $20 million. Company B also has 100,000 shares outstanding. The risk-free rate is 1%.

(a) Assume that there are no taxes. What is A's share price? What is B's share price?
(b) Can you create a portfolio that mimics the risk-return profile of Company A (1 stock of Company A) and consists of the risk free asset and Company B's stock? If yes, describe the portfolio.
(c) Company B wants to achieve its long-term target Debt-to-Equity ratio of 0.5. How much debt or equity does Company B have to buy back? Calculate the value of the debt and equity after the buy-back.
(d) Let's consider that the corporate tax rate is 35% (assume that the levered value of Company B is still $50 million). Analyze the scenario in part (c) with corporate tax rates. What is the value of debt and equity after the buy-back in part (c).
(e) Why are the market values of debt and equity different in parts (c) and (d)?


Put your comment

Ask Question & Get Answers from Experts
Browse some more (Finance Basics) Materials
Compute Miller's depreciation expense for 20X2, 20X3, and 20X4. Prepare the Fixed Asset portion of the balance sheet (for these two fixed assets) as of the end of 20X2, 20X3,
Earnings per share of common stock will immediately increase as a result of, An increase in the market price of a company's common stock will immediately affect its:
Herb is a self-employed agent who is setting his own retirement fund. He is depositing $17,000 a year for the next 20 years. How much will he be able to collect for his reti
The CFO of Laidlaw Inc. is wondering how the company is doing in terms of creating value for the company's common shareholders. To answer the question, the CFO wishes to calcu
Describe the role of a reinsurance intermediary. Contrast treaty reinsurance and facultative reinsurance. Describe the distinguishing characteristic of quota share reinsurance
A plastic surgeon wants to compare the number of successful skin grafts in her series of burn patients with the number in other burn patients. A literature survey indicates
Explain how you would assign labels for stratified sampling. Then use table B, starting at line 122, to select the first 5 students in the sample from each stratum. After se
A U.S. company has been asked to bid for a reconstruction project in post-war Iraq. Since its major foreign competitors are barred from bidding for Iraqi contracts by the US,